Knowledge Center

Takeaways from Wayfair - By HMB's SALT Team

Everyone is by now likely familiar
with the recent Wayfair decision and its central
holding. Prior to Wayfair, businesses had some
degree of comfort that they would not be required to collect and
remit sales or use taxes to states in which those businesses did
not have physical presence. Now that the physical presence test is
gone, state legislation must be reviewed on a case-by-case basis to
determine whether it will survive Commerce Clause scrutiny. Rather
than go over every detail of the case, we at Horwood Marcus &
Berk Chtd. thought it would be helpful for each attorney to give a
takeaway or two from the case. For our recent discussion on
Wayfair generally and its impact on Illinois' recently
adopted legislation, click
here.

All Businesses should
Consider Wayfair's Impact

The Wayfair holding has an impact on all
businesses. Most obviously, the holding will trigger businesses who
previously did not collect in jurisdictions which it did not have a
physical presence to start collecting applicable sales and use tax.
Additionally however, businesses that had established nexus
everywhere prior to the holding
of Wayfair should not fall into the trap that
this holding is inapplicable to its business. These businesses
should review their use tax accruals, direct pay permits, and
vendors' invoices. Their inaction to review these processes will
likely result in the double payment of tax as their vendors who did
not previously collect sales or use tax, will likely begin to do so
in light of the Wayfair ruling.

What will Wayfair mean for Future State
Legislation?

Although the Supreme Court
remanded Wayfair to the Supreme Court of South
Dakota on the basis that the Court's decision was limited solely to
the question of whether the Quillphysical presence
standard was fatal to SB 106, the Court provided a number of
characteristics of South Dakota's law that counseled in favor of
upholding the law on remand. These factors include:

By asserting nexus only over sellers who deliver either
$100,000 of goods or services or 200 or more separate transactions
into the state, the act applies a "safe harbor to those who
transact only limited business in South Dakota";

The act ensures that no obligation to remit the sales tax may
be applied retroactively;

South Dakota is one of more than 20 states that have adopted
the Streamlined Sales and Use Tax Agreement, or SSUTA; and

South Dakota also provided sellers access to sales tax
administration software paid for by the state that immunizes
sellers from audit liability regarding their reliance on the
software.

But
the Wayfair Court did not provide any bright
line rules to assist in determining whether a state statute
satisfies the requirements of the Commerce Clause. Thus, when
assessing the constitutionality of a state's assertion of nexus
prospectively, courts will review the facts on a case by case
basis, undoubtedly aided by the four factors identified by the
Supreme Court in South Dakota's law which indicate a tax does not
burden interstate commerce. A pivotal issue moving forward is
whether the four factors were meant to be a leash for future
legislation, restricting the constitutionality of a law to these
requirements, or whether they should merely be considered and
potentially ignored in a Commerce Clause analysis. The likelihood
is the latter, but taxpayers should not be surprised when
litigation arises surrounding this issue.

Safe-Harbor or Red Herring?

The South Dakota law at issue
in South Dakota v. Wayfair requires remote
sellers to collect sales tax if they deliver more than $100,000 of
goods or services into South Dakota or engage in 200 or more
transactions in the state. The US Supreme Court referred to this
requirement as a "safe harbor" for sellers who only transact
limited business in South Dakota. But is the amount of business
that a seller conducts in a state really constitutionally relevant?
The Wayfair court goes to great lengths to
emphasize that the Commerce Clause test is about burdens or, more
precisely, eliminating or reducing burdens on interstate commerce.
Indeed, this was one of the reasons that the Court abandoned the
physical presence test. Physical presence, by itself, is a "poor
proxy" (Justice Kennedy's term) for the compliance costs faced by
companies that do business in multiple states. A remote seller's
degree of physical presence in a state tells us little about the
compliance burdens faced by the seller in that state. Is a
company's sales or transactions in the state really a better proxy?
Is a company with $50,000 of sales in South Dakota more burdened by
having to file a sales tax return than a company with $150,000 of
sales? Not necessarily, at least for sellers whose sales and
transactions exceed a truly nominal number (one or two sales into
the state). This is especially true for indirect taxes such as a
sales/use tax collection obligation.

The Commerce Clause burdens test
should focus on a state's tax system, a point emphasized by the
Supreme Court when it noted that South Dakota was a member of the
Streamlined Sales and Use Tax Agreement. Streamlined member states
are required to have a single, state level tax administration;
uniform definitions of products and services; simplified tax rate
structures; and access to software provided by the state. These
criteria are arguably a better measure of the burden on interstate
commerce than a simplistic sales/transactions threshold. While the
sales/transactions threshold has political appeal because it shows
concern for the small sellers of the world, the threshold is
arguably just a red herring in evaluating the burdens on interstate
commerce.

When does a Business Cross the Safe-Harbor Threshold?

Illinois, in anticipation of a
favorable Supreme Court decision, has amended its statute to adopt
what the Court has characterized as a safe harbor. Beginning
October 1, 2018, a remote retailer making sales of tangible
personal property to Illinois purchasers will be subject to a use
tax collection obligation if (i) its cumulative gross receipts from
sales of tangible personal property to Illinois purchasers are
$100,000 or more or (ii) the remote retailer enters into 200 or
more separate transactions (sales of tangible personal property to
Illinois purchasers).

Unanswered by the Court was the
question of when a remote seller crosses the threshold. If,
during the course of a 12-month period, the remote seller hits the
$100,000 mark or has engaged in its
200th transaction, is the remote seller now
obligated to collect tax and if so, for how long. Illinois has
attempted to answer this question by requiring the remote seller to
determine on a quarterly basis ending on the last day of March,
June, September and December, whether the remote seller has hit the
$100,000 mark or has made 200 separate sales to Illinois
purchasers. If the remote seller has met either of the statutory
criteria for a 12-month period, the remote seller is required to
collect and remit use tax. At the end of the 1-year period, the
remote seller is required to determine if it has met either
criteria during the preceding 12-month period. If the remote seller
has met either criteria for the preceding 12-month period, the
remote seller is required to collect and remit use tax for the
subsequent year. If at the end of a 1-year period a remote seller
that was required to collect and remit tax determines that it no
longer meets either of the criteria, the remote seller must once
again determine on a quarterly basis whether it meets either of the
statutory criteria.

Whether this is a workable solution
to the question of when a remote seller crosses the statutory
threshold and is required to begin collecting and remitting tax
remains to be seen. Another concern is what other states may adopt.
This is only one of the many problems facing remote sellers as they
now attempt to comply with what the individual states may adopt in
this new and unchartered era.

The Supreme Court and Stare Decisis

Putting aside the obvious sales tax
implications of the Wayfair decision, what I
found most profound was the Court's about-face turn in regard to
the long-respected and followed concept of stare
decisis. Quill was originally decided in large
part due to Court's hesitance to overturn Bellas
Hess, its established legal precedent dealing with nexus. The
term stare decisis has its origin from Latin
that means "to stand by things decided," and over the years the
Court has done so unless the decision was found to be both (1)
wrongly decided; and (2) harmful to society "and causing a lot of
trouble…" (Summarizing a Justice Breyer interview with students).
Justice Breyer, writing for the Court
in Randall v. Sorrell, the Vermont campaign
finance reform decision, 2006, stated:

"The Court
has often recognized the 'fundamental importance of stare decisis,
the basic legal principle that commands judicial respect for a
court's earlier decisions and the rules of law they embody. The
court has pointed out that stare decisis 'promotes the evenhanded,
predictable and consistent development of legal principles, fosters
reliance on judicial decisions, and contributes to the actual and
perceived integrity of the judicial process.' Stare decisis
thereby avoids the instability and unfairness that accompany
disruption of settled legal expectations. For this reason, the rule
of law demands that adhering to our prior case law be the norm.
Departure from precedent is exceptional and requires special
justification."

In the matter of two short weeks
the Court has dealt two significant blows to stare decisis with not
only its decision in Wayfair, but most recently
in Janus v. American Federation of State, County and
Municipal Employees, No. 16-1466, in which the majority
overruled a 40-year-old precedent in holding that government
workers who choose not to join unions may not be required to help
pay for collective bargaining.

Thomas, for his part in
the Wayfair decision, put pen to paper to
renounce his own past views in the 1992 Quill
case, noting that "a quarter century of experience" had
convinced him that the physical-presence requirement "can no longer
be rationally justified." Without explaining how he changed his
mind, he acknowledged that "it is never too late to surrender
former views to a better considered position." We, as a society,
have obviously benefited from the Court's past "surrendering of
former views to a better considered position," (See Brown
v. Bd. of Education, 347 U.S. 483 (1954)); however,
historically the Court has only strayed from its well-established
precedent in rare and sometimes extreme situations. Justice Scalia
made his feelings toward it clear when in its Planned
Parenthood v. Casey dissent he argued that, "…it seems to
me that stare decisis ought to be applied even
to the doctrine ofstare decisis, and I confess never to have heard
of this new, keep-what-you-want-and-throw-away-the-rest version."
505 U.S. (1992)(dissenting).

Immediately after
the Wayfair decision was issued, I joked that my
favorite part of the decision was Justice Thomas' dissent because
of his blatant jab at the dormant commerce clause. Justice Thomas'
inability to withhold his disdain of the dormant commerce clause
from a short, concise one-paragraph dissent was greatly
entertaining to me. However, this short dissent has much great
implications than the humorous ones that I initially pointed out.
What are the broader implications that it will have
on stare decisis? In recent weeks the Supreme Court
has dealt a significant blow to its long-standing adherence to
judicial precedent in general and now we have Justice Kennedy
retiring from the Court. What will this all mean? If one thing is
for certain now, it is that we cannot rely on precedent to tell
us.

Wayfair and Foreign Sellers

The Wayfair decision has given us clarity in
that the physical presence test created in National Bellas
Hess and confirmed in Quill is no
longer the test when determining what constitutes substantial nexus
under Complete Auto v. Brady. But
the Wayfair decision has left us with many
unanswered questions. One of the many questions I have been asked
is about the impact of Wayfair on foreign
sellers. In other words, does the elimination of the physical
presence test impact a foreign seller's obligation to collect use
tax on sales into the United States? In a word, in my opinion,
YES.

Prior to
the Wayfair decision, foreign sellers, similar
to remote sellers, did not have an obligation to collect use tax on
sales that they were not physically present. The removal of the
physical presence test and the substitution of the 200 sales or
$100,000 of sales test puts the same burden on foreign sellers as
it does other remote sellers. Remember, states are not bound by
treaties between the United States and a foreign country. Also, use
tax collection imposed on a foreign seller is most likely not a
violation of either the foreign commerce clause or the
import/export clause.

The only real issue is in the case
of a state assessing a foreign seller is a matter of collecting the
unpaid tax. That can be a real time consuming and difficult task
for the states.

Applying Wayfair Prospectively

Be careful what you wish for as you
may get it is a fitting adage for
the Wayfair decision. In the prophetic words of
Justice White in his concurrence/dissent
in Quill the "vagaries of 'physical presence'
were tested" and the concept was laid to rest.
The Wayfair decision harmonized the Commerce
Clause substantial nexus requirements with the evolution of
electronic commerce and technology. In reaching its conclusion the
Court accepted the South Dakota standards of 200 transactions and
$100,000 of sales as sufficient to pass constitutional muster
particularly when coupled with the prohibition against retroactive
application. It certainly could be argued that this is floor for
any collection requirements. The Court also in reaching its
decision rejected the administrative compliance burden argument
that swayed the Court in Quill pointing out
there are other doctrines that may be invoked to handle the
situation should it arise. Although providing some guidance around
the collection requirement the Court did not provide the bright
line guidance that many had hoped for. So, what are the take ways
from the decision: (1) Substantial nexus does not equate to
physical presence and substantial virtual presence will meet the
standard; (2) A bright line test that creates market distortion
when it treats two economically identical entities differently for
an arbitrary reason will not pass constitutional muster; and (3)
There are other doctrines that may be used to address the issue of
substantial burdens should the issue arise. As the states review
the decision and begin to contemplate implementation not only
should these three factors be taken into consideration but also a
prospective approach to any collection requirements.

What Case Law do we Look to Now?

In support of the Supreme Court's
new Commerce Clause nexus standard, the Court referred
to Polar Tankers. That case addressed whether an
Alaskan city was entitled to impose a personal property tax on the
value of ships traveling through the city. Although the tax was
struck down on other grounds, the Court noted that a
"[n]ondomiciliary jurisdiction may constitutionally tax property
when that property has a 'substantial nexus' with that
jurisdiction, and such a nexus is established when the taxpayer
'avails itself of the substantial privilege of carrying on
business' in that jurisdiction."[1] The taxpayer in that case had
at least twenty-eight ships that were in port in the city, a
substantial physical presence in the taxing jurisdiction.

Polar
Tankers quoted Mobil Oil Corp. v. Comm'r of
Taxes[2]. That case hinged on whether Vermont could
constitutionally tax the Vermont taxpayer's net dividends from
subsidiaries and affiliates operating abroad.[3] The Mobil
Oil Court's characterization of nexus was focused on
whether the state could constitutionally include the net dividends
in apportionable income, and was not really focused at all on
whether the taxpayer, which was engaged in the production,
refining, transportation, and distribution and sale of petroleum
and petroleum products in many states, including Vermont, was
subject to tax.

In light
of Wayfair's citation to Polar
Tankers, which quoted Mobil Oil, the Supreme
Court may have unwittingly conflated apportionment case law with
nexus jurisprudence. Only time will tell, but this highlights the
need for taxpayers to think about their contacts with taxing
jurisdictions with a fresh perspective.

Conclusion

Although the Supreme Court remanded
the case to the South Dakota Supreme Court for further analysis
regarding whether SB 106 conflicts with the Commerce Clause, the
central holding in the case, that physical presence is no longer a
requirement under the Commerce Clause, has been established. Both
states and businesses should critically assess the relevant factors
for Commerce Clause analysis and consider how those apply to
businesses on a case by case basis.

[1]Polar Tankers, Inc., 557 U.S. at 1.

[2] 445 U.S. 425 (1980).

[3]Id. at 427.

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